Summary of Primary 2013 Legislative Changes to the Minnesota Estate and Gift Tax

December 23, 2013 | dehs

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The state of Minnesota recently passed tax legislation affecting not only residents of Minnesota, but also non-residents of Minnesota owning Minnesota real estate or other tangible property in Minnesota.

There are currently 20 states that impose some sort of estate or inheritance tax at death. South Dakota has no estate or inheritance tax so normally South Dakota residents only need to worry about a possible federal estate tax and do not need to worry about a state death tax being imposed at death. However, each state is permitted to impose an estate tax on property that is located within their state. Accordingly, states with an estate tax, such as Minnesota, will impose their tax not only on Minnesota residents but on others, including South Dakota residents, who own property in the state of Minnesota at the time of their death.

The Minnesota estate tax is at a rate as high as 41% on the first $93,785 of taxable value. Thereafter, the tax is imposed at graduated rates from 6.4% to 16%. There are some exemptions to this Minnesota estate tax. The three most applicable exemptions are (i) if all of one’s assets, wherever located, are less than $1,000,000 in value, there is no Minnesota estate tax; (ii) assets passing to a spouse are exempt from Minnesota estate tax, and (iii) assets passing to a qualified charity are exempt from Minnesota estate tax. There are other exemptions that may apply in limited circumstances to Minnesota residents.

Minnesota Property Held in an Entity

In the past, one way South Dakota residents avoided Minnesota estate tax on their Minnesota real estate was to form an entity, such as a limited liability company (LLC), and have their Minnesota real estate transferred to the LLC. In this way the South Dakota resident owned a membership interest in an LLC rather than the Minnesota land. The LLC membership interest was considered personal property and remained outside the jurisdiction of the Minnesota estate tax.

Minnesota’s recent legislation is intended to impose the Minnesota estate tax on nonresidents who have Minnesota property held in an entity such as a LLC, partnership, or S-corporation. As of January 1, 2013, Minnesota will now ignore the LLC or other pass-through entity and will treat the South Dakota resident or other non-residents as if they directly owned the Minnesota real estate held by the entity. If a person owns 50% of an LLC, they will be treated as if they own 50% of the Minnesota real property held by the LLC and they may be subject to Minnesota estate tax.

This is not good news for South Dakota residents. If you formed an LLC for the specific reason of avoiding Minnesota estate tax, avoiding the Minnesota estate tax may no longer be possible. There could be challenges to this legislation along Constitutional grounds or otherwise, but any challenge of this nature will take some time.

Minnesota Gift Tax

The 2013 Minnesota legislation also included a 10% gift tax. Minnesota is only one of two states with a gift tax. This new legislation imposes a gift tax on all gifts of Minnesota real property or tangible personal property located in Minnesota made by a non-resident of Minnesota. As with the Minnesota estate tax, there are a number of exemptions to the gift tax. One exemption from the Minnesota gift tax allows gifts equal to or less then the federal annual exclusion to pass free of Minnesota gift tax. Currently, this exemption allowed a tax-free gift of up to $14,000 per person per year and each donor may give as many $14,000 gifts as they wish. The $14,000 is indexed for inflation and will likely increase in future years. Another exemption allows gifts of Minnesota property up to $1,000,000 to pass free of gift tax. If a person gifts more than $1,000,000, a gift tax of 10% will apply to the value of gifts over $1,000,000. Should a person die within three years of making a taxable gift, the assets given away will be brought into the decedent’s taxable estate for purposes of imposition of the Minnesota estate tax at possibly higher rates.

There is room for planning regarding Minnesota gift tax. A nonresident may choose to give away portions of their Minnesota real estate annually and avoid this tax by staying within the annual exclusion amount. Further, there is the possibility that if one has set up a LLC to hold Minnesota real estate, that a gift of the LLC interest will not be subject to the gift tax.

Residency

Most people have no problem determining in what state they are a resident. Usually the state of your residency is determined by your intent or your physical presence within the state. Intent is very subjective. A number of factors are used by the State of Minnesota to determine whether you intend to be a Minnesota resident. These factors include where you receive your mail, the address you show as your home on documents such as your income tax returns, where you have a vehicle licensed and where your driver’s license is issued, where you register to vote, where you bank, where you have memberships, or whether your hunting and fishing licenses are purchased as a resident or nonresident.

If, however, you consider yourself a South Dakota resident but own, or even rent, a second home in Minnesota – whether a lake home or a condominium in the city – Minnesota may seek to claim you as a resident. Minnesota considers a person who is physically present in Minnesota for more than 183 days and has a place of abode in Minnesota to be a Minnesota resident. To be considered a place of abode, the abode generally must have a kitchen and a place to sleep. Being a resident will subject you not only to the estate and gift tax rules discussed above, but also Minnesota income tax.

This letter summarizes only a few of the changes to the Minnesota tax laws. There are numerous questions with respect to the new Minnesota laws that have yet to be answered. It will take some time to see how the Minnesota Department of Revenue will implement and apply these laws. If you do have any questions at this time, however, we would be pleased to visit with you at 605-336-2880.

Mark R. Krogstad, a Willmar, Minnesota native, received his masters in taxation at the University of Florida and is licensed in both South Dakota and Minnesota. His practice is primarily devoted to estate and business succession planning, probate, taxation, and business law.

Davenport, Evans, Hurwitz & Smith, LLP, located in Sioux Falls, South Dakota, is one of the State’s largest law firms. The firm’s attorneys provide business and litigation counsel to individuals and corporate clients in a variety of practice areas. For more information about Davenport Evans, visit www.DEHS.com or call 605-336-2880.

CIRCULAR NO. 230 DISCLOSURE: The foregoing written communication may contain U.S. federal tax advice. Treasury Department Circular No. 230, under which the Treasury Department regulates our practice before the Internal Revenue Service, provides that for the purpose of avoiding certain penalties under the Internal Revenue Code, a taxpayer may only rely on a formal opinion which meets specific requirements. Accordingly, unless expressly stated otherwise in the foregoing communication, any Federal tax advice contained in this correspondence message or any enclosure(s): (i) does not constitute a formal opinion that meets the requirements of Circular 230; and (ii) is not intended or written by our firm to be used, and cannot be used by any taxpayer, for the purpose of avoiding any penalties that may be imposed under the Internal Revenue Code. No one, without our express prior written consent, may use any part of this correspondence message or any enclosure(s) in promoting, marketing or recommending to any taxpayer any entity, investment plan or arrangement addressed herein.